Four major lessons from two decades managing small caps
Our mantra at IML is to focus on companies that have: a competitive advantage, with recurring earnings, run by capable management, that can grow and that are trading at a reasonable price. Strictly adhering to this mantra has enabled IML’s portfolios to avoid being caught up in many unsustainable booms and inevitable busts that have occurred since IML‘s inception in 1998 – such as the tech boom and bust in 1999 to 2001, the era of highly leveraged vehicles of 2005 to 2007 and more recently the resource boom and bust that occurred between 2011 and 2014. Reflecting after winning the Morningstar Domestic Equities Small Cap Fund Manager of the Year award, Senior Portfolio Manager for small and midcap funds, Simon Conn, says there are four key lessons he has learnt after almost two decades picking small cap stocks that form the base of the strategy. Read on for the highlights of the report.
Lesson 1: Always buy quality industrial companies
We want to buy companies like Steadfast Group, Pact or Shopping Centres Australia (SCA Property Group) where we would expect to get steady earnings growth over the long term and a solid regular income along the way by way of dividends as opposed to tying your future to some commodity price rally which may or may not be sustained.”
Lesson 2: Back a management team you can trust
Before we buy into any stock, we are looking for honest, prudent and experienced managers. We like to back managers who make it a habit of underpromising and over-delivering – as opposed to people who know how to put a good spin on things – and there are plenty of those around! We also like to see Boards of Directors with a diverse skill set that mentors their managers and asks the right questions.
Lesson 3: Undervalued quality companies often become attractive takeover targets
When you invest in a good quality company with the attributes we look for, the company is also potentially attractive to a competitor or a new entrant into that market segment. This not only can lead to some great wins for our investors but it also provides downside protection if the stockmarket falls or the stock falls out of favour. There have been a number of companies which we bought as we felt they were good quality companies trading at undervalued prices and we received takeover bids for our stakes at often fantastic prices compared to our entry prices. At the moment Fairfax, which we hold in all our Funds, looks like it is also a contested takeover candidate.
Lesson 4: Stand aside from the bubbles and don’t listen to the noise
Being a country boy originally who was brought up on a farm, I experienced firsthand the boom and bust nature of agriculture and the volatility and unpredictability of commodity markets. Commodity producers have no control over the price of their outputs and by their nature these companies – like agricultural or Resource companies - are high risk and do not make good long term investments.
The other lesson I learnt from my early life on the land is to respect the cycle and to not make the mistake of thinking that just because a market has gone up it will keep running. When sectors in the stockmarket become over-hyped and share prices run well ahead of their fundamentals, experience has taught us that it pays to be very wary. It does not pay to get caught up in the hype of the latest fad or theme.
You can access the full report here: (VIEW LINK)
4 stocks mentioned
Investors Mutual Limited (IML) is a specialist Australian equities fund manager and was established in May 1998 by Anton Tagliaferro. Based in Sydney, the IML team applies a conservative value-based investment style with a long-term focus.